Intermediate accounting volum 1 IFRS edition chapter 10

10-1


CHAPTER

10

ACQUISITION AND DISPOSITION OF
PROPERTY, PLANT, AND EQUIPMENT

Intermediate Accounting
IFRS Edition
Kieso, Weygandt, and Warfield

10-2


Learning
Learning Objectives
Objectives
1.

Describe property, plant, and equipment.

2.

Identify the costs to include in initial valuation of property, plant,
and equipment.

3.

Describe the accounting problems associated with self-constructed
assets.

4.

Describe the accounting problems associated with interest
capitalization.

5.

Understand accounting issues related to acquiring and valuing
plant assets.

6.

Describe the accounting treatment for costs subsequent to
acquisition.

7.

Describe the accounting treatment for the disposal of property,
plant, and equipment.

10-3


Acquisition
Acquisition and
and Disposition
Disposition of

of
Property,
Property, Plant,
Plant, and
and Equipment
Equipment

Acquisition
Acquisition costs:
land, buildings,
equipment
Self-constructed
assets
Interest costs
Observations

10-4

Valuation
Cash discounts
Deferred contracts
Lump-sum
purchases
Stock issuance
Non-monetary
exchanges
Government
grants

Cost Subsequent

to Acquisition
Additions
Improvements and
replacements
Rearrangement
and reorganization
Repairs
Summary

Dispositions
Sale
Involuntary
conversion


Property,
Property, Plant,
Plant, and
and Equipment
Equipment
Property, plant, and equipment is defined as tangible assets
that are held for use in production or supply of goods and
services, for rentals to others, or for administrative purposes; they
are expected to be used during more than one period.
►

►

“Used in operations” and not for

Includes:

resale.

 Land,

Long-term in nature and usually
depreciated.

►

10-5

 Building structures
(offices, factories,
warehouses), and

Possess physical substance.

 Equipment
(machinery, furniture,
tools).

LO 1 Describe property, plant, and equipment.


Acquisition
Acquisition of
of PP&E
PP&E

Historical cost measures the cash or cash equivalent price of
obtaining the asset and bringing it to the location and condition
necessary for its intended use.
Companies value property, plant, and equipment in
subsequent periods using either the

10-6



cost method or



fair value (revaluation) method.

LO 2 Identify the costs to include in initial valuation of
property, plant, and equipment.


Acquisition
Acquisition of
of PP&E
PP&E
Cost of Land
Includes all costs to acquire land and ready it for use. Costs
typically include:
(1) purchase price;
(2) closing costs, such as title to the land, attorney’s fees, and
recording fees;

(3) costs of grading, filling, draining, and clearing;
(4) assumption of any liens, mortgages, or encumbrances on
the property; and
(5) additional land improvements that have an indefinite life.
10-7

LO 2


Acquisition
Acquisition of
of PP&E
PP&E
Cost of Land
Improvements with limited lives, such as private
driveways, walks, fences, and parking lots, are recorded
as Land Improvements and depreciated.
► Land acquired and held for speculation is classified

as an investment.
► Land held by a real estate concern for resale should

be classified as inventory.

10-8

LO 2 Identify the costs to include in initial valuation of
property, plant, and equipment.

Acquisition
Acquisition of
of PP&E
PP&E
Cost of Buildings
Includes all costs related directly to acquisition or
construction. Cost typically include:
(1) materials, labor, and overhead costs incurred during
construction and
(2) professional fees and building permits.

10-9

LO 2 Identify the costs to include in initial valuation of
property, plant, and equipment.


Acquisition
Acquisition of
of PP&E
PP&E
Cost of Equipment
Include all costs incurred in acquiring the equipment and
preparing it for use. Costs typically include:
(1) purchase price,
(2) freight and handling charges
(3) insurance on the equipment while in transit,
(4) cost of special foundations if required,
(5) assembling and installation costs, and
(6) costs of conducting trial runs.

10-10

LO 2 Identify the costs to include in initial valuation of
property, plant, and equipment.


Acquisition
Acquisition of
of PP&E
PP&E
E10-1 (variation): The expenditures and receipts below are related to
land, land improvements, and buildings acquired for use in a business
enterprise. Determine how the following should be classified:
Classification
(a) Money borrowed to pay building contractor
(b) Payment for construction from note proceeds

Notes Payable
Building

(c) Cost of land fill and clearing

Land

(d) Delinquent real estate taxes on property
assumed

Land

(e) Premium on 6-month insurance policy during

construction
(f)

10-11

Refund of 1-month insurance premium because
construction completed early

Building
(Building)

LO 2 Identify the costs to include in initial valuation of
property, plant, and equipment.


Acquisition
Acquisition of
of PP&E
PP&E
E10-1 (variation): The expenditures and receipts below are related to
land, land improvements, and buildings acquired for use in a business
enterprise. Determine how the following should be classified:
Classification
Building

(g) Architect’s fee on building
(h) Cost of real estate purchased as a plant site (land
€200,000 and building €50,000)

Land

(i)

Commission fee paid to real estate agency

Land

(j)

Installation of fences around property

(k) Cost of razing and removing building
(l)

Proceeds from salvage of demolished building

(m) Cost of parking lots and driveways
(n) Cost of trees and shrubbery (permanent)
10-12

Land Improvements
Land
(Land)
Land Improvements
Land
LO 2


Acquisition
Acquisition of

of PP&E
PP&E
Self-Constructed Assets
Costs typically include:
(1) Materials and direct labor
(2) Overhead can be handled in two ways:
1. Assign no fixed overhead
2. Assign a portion of all overhead to the construction
process.
Companies use the second method extensively.

10-13

LO 3 Describe the accounting problems associated with self-constructed assets.


Acquisition
Acquisition of
of PP&E
PP&E
Interest Costs During Construction
Three approaches have been suggested to account for the
interest incurred in financing the construction.
Illustration 10-1

$0

Capitalize no
interest during
construction

Increase to Cost of Asset

Capitalize actual
costs incurred during
construction (with
modification)

$?

Capitalize
all costs of
funds

IFRS
10-14

LO 4 Describe the accounting problems associated with interest capitalization.


Acquisition
Acquisition of
of PP&E
PP&E
Interest Costs During Construction


IFRS requires — capitalizing actual interest (with
modification).



Consistent with historical cost.



Capitalization considers three items:
1. Qualifying assets.
2. Capitalization period.
3. Amount to capitalize.

10-15

LO 4 Describe the accounting problems associated with interest capitalization.


Acquisition
Acquisition of
of PP&E
PP&E
Qualifying Assets
Require a substantial period of time to get them ready for
their intended use.
Two types of assets:
►

Assets under construction for a company’s own use.

►

Assets intended for sale or lease that are constructed
or produced as discrete projects.

10-16

LO 4 Describe the accounting problems associated with interest capitalization.


Acquisition
Acquisition of
of PP&E
PP&E
Capitalization Period
Begins when:
1.

Expenditures for the asset have been made.

2.

Activities for readying the asset are in progress .

3.

Interest costs are being incurred.

Ends when:
The asset is substantially complete and ready for use.

10-17

LO 4 Describe the accounting problems associated with interest capitalization.


Acquisition
Acquisition of
of PP&E
PP&E
Amount to Capitalize
Capitalize the lesser of:
1.

Actual interest costs

2.

Avoidable interest - the amount of interest that could
have been avoided if expenditures for the asset had
not been made.

10-18

LO 4 Describe the accounting problems associated with interest capitalization.


Acquisition
Acquisition of
of PP&E
PP&E
Interest Capitalization Illustration: Blue Corporation borrowed

$200,000 at 12% interest from State Bank on Jan. 1, 2011, for specific
purposes of constructing special-purpose equipment to be used in its
operations. Construction on the equipment began on Jan. 1, 2011,
and the following expenditures were made prior to the project’s
completion on Dec. 31, 2011:
Other general debt existing
on Jan. 1, 2011:
$500,000, 14%, 10-year
bonds payable
$300,000, 10%, 5-year
note payable
10-19

LO 4 Describe the accounting problems associated with interest capitalization.


Acquisition
Acquisition of
of PP&E
PP&E
Step 1 - Determine which assets qualify for
capitalization of interest.
Special purpose equipment qualifies because it requires
a period of time to get ready and it will be used in the
company’s operations.

Step 2 - Determine the capitalization period.
The capitalization period is from Jan. 1, 2011 through
Dec. 31, 2011, because expenditures are being made
and interest costs are being incurred during this period

while construction is taking place.
10-20

LO 4 Describe the accounting problems associated with interest capitalization.


Acquisition
Acquisition of
of PP&E
PP&E
Step 3 - Compute weighted-average accumulated
expenditures.

A company weights the construction expenditures by the amount of time
(fraction of a year or accounting period) that it can incur interest cost on the
expenditure.
10-21

LO 4 Describe the accounting problems associated with interest capitalization.


Acquisition
Acquisition of
of PP&E
PP&E
Step 4 - Compute the Actual and Avoidable Interest.
Selecting Appropriate Interest Rate:

10-22

1.

For the portion of weighted-average accumulated
expenditures that is less than or equal to any amounts
borrowed specifically to finance construction of the assets,
use the interest rate incurred on the specific borrowings.

2.

For the portion of weighted-average accumulated
expenditures that is greater than any debt incurred specifically
to finance construction of the assets, use a weighted
average of interest rates incurred on all other outstanding
debt during the period.
LO 4 Describe the accounting problems associated with interest capitalization.


Acquisition
Acquisition of
of PP&E
PP&E
Step 4 - Compute the Actual and Avoidable Interest.
Actual Interest
Weighted-average
interest rate on
general debt
$100,000
$800,000

= 12.5%

Avoidable Interest

10-23

LO 4 Describe the accounting problems associated with interest capitalization.


Acquisition
Acquisition of
of PP&E
PP&E
Step 5 – Capitalize the lesser of Avoidable interest or
Actual interest.

Journal entry to Capitalize Interest:
Equipment

30,250

Interest expense
30,250

10-24

LO 4 Describe the accounting problems associated with interest capitalization.


Acquisition
Acquisition of

of PP&E
PP&E
Comprehensive Illustration: On November 1, 2010,
Shalla Company contracted Pfeifer Construction Co. to
construct a building for $1,400,000 on land costing $100,000
(purchased from the contractor and included in the first
payment). Shalla made the following payments to the
construction company during 2011.

10-25

LO 4 Describe the accounting problems associated with interest capitalization.